Thinking Outside the Redbox

To many people, the coffee dispensed by vending machines is a sour brew, forever associated with jury duty waiting rooms and bowling alleys.

Source: Coinstar.com

Coinstar

But Coinstar, which has become a force in self-service retailing through the swift rise of Redbox, its movie rental subsidiary, hopes to change that. When a visitor to its headquarters here dips a credit card into a coffee machine in the company cafeteria, the machine grinds a batch of beans and dribbles out a $1 cup of fresh coffee that tastes pretty close to a cup from any upscale coffee bar.

The machine is the latest bet by Coinstar, which is best known for its Redbox kiosks that have become nearly inescapable in some parts of the country. More than 35,000 of the bright red machines are tucked into corners of Walmarts, McDonald’s outlets and drugstores. Its $1.20-a-night DVD rentals made it into the biggest renter of home videos in the United States and helped drive many Blockbuster stores out of business.

Those cheap rentals also turned Redbox into one of Hollywood’s boogeymen who, along with Netflix, were blamed for accelerating the decline of home video sales. Faced with the prospect that online movie watching will eventually replace physical discs, Redbox last week banded together with Verizon Communications to form a service that combines DVD and streaming movie options.

Redbox’s profile has largely overshadowed its parent company’s broader ambitions to reinvent vending machines by applying them to new categories of retailing, as well as old ones like coffee. In an interview at the company’s headquarters, Paul Davis, chief executive of Coinstar, said there was great convenience in self-service kiosks because of how widely they can be placed in grocery stores and other locations.

“Consumers love it because they don’t have a lot of time on their hands,” Mr. Davis, 54, said over coffee dispensed by the new vending machine in Coinstar’s cafeteria. “We try to be where the consumer goes everyday.”

Until Redbox took off, Coinstar was known for its namesake coin-counting kiosks, more than 20,000 of which are now installed inside grocery and other retail chains. The company was founded just over two decades ago by Jens Molbak, who as a Stanford University graduate student realized there wasn’t an easy way to spend the spare change piled up in a jar on top of his dresser. Coinstar converts change into cash or store vouchers, earning a transaction fee in the process.

The coffee kiosks are the first of what Coinstar expects to be a wave of new vending machines from the company. It is testing the machines in locations around the country and expects to have about 500 installed by the end of the year.

Mr. Davis envisions the 3-foot-by-3-foot kiosks going into supermarkets, gas stations and office buildings, though he does not see a need for them in retail locations that already have a small Starbucks or some other coffee chain. Coinstar joined with Starbucks on the kiosks, which are labeled with the company’s Seattle’s Best Coffee brand.

Michael Pachter, an analyst at Wedbush Securities, said he believed the coffee kiosks represented a meaningful growth market for Coinstar. “The retailer relationship is their biggest competitive advantage,” Mr. Pachter said. “If every place has a coin box, they know how to get another 12 square feet.”

A kiosk concept Coinstar is experimenting with in about eight retail locations in Texas and California is called Gizmo, through which it sells used video game consoles, iPads and other electronics. Many of the items in the kiosks are refurbished by a manufacturer or another party with prices that are up to half off retail, Mr. Davis said.

Other concepts it is testing include ecoATM, a kiosk created by a start-up Coinstar invested in that allows consumers to trade in old cellphones and other electronics for cash. The machine uses a camera to evaluate the condition of the devices. Coinstar says the traded-in phones often end up being sold in developing countries, a more environmentally friendly outcome than going to landfills.

Mr. Davis said Coinstar had about eight or nine kiosk ideas in various stages of development, part of an effort it established about 18 months ago. It tests concepts in public locations, often in primitive form and with employees nearby to observe how customers are interacting with them; the early prototypes of Gizmo, for example, were made out of cardboard.

“What we try to do is plant a lot of seeds,” Mr. Davis said. “We know the math says only about half are going to work.”

The company will need new kiosk successes as physical movie rentals, its biggest business, face an uncertain future. About 85 percent of Coinstar’s $1.85 billion in revenue last year was from Redbox. The number of movies rented in DVD and Blu-ray formats last year in the United States fell by 11 percent from the year before, as chains like Blockbuster closed more bricks-and-mortar stores and viewers switched to online movie watching, according to NPD Group, a research firm in Port Washington, N.Y.

Despite the weakness in the overall rental market, Redbox thrived by gobbling up share from physical stores. Its number of rentals jumped 28 percent in 2011 from 2010. It accounted for 37 percent of physical movie rentals last year, up from 25 percent in 2010, NPD said. Earlier this month, Coinstar made a move to further consolidate its position in physical rental with the proposed acquisition for up to $100 million of the entertainment business of NCR, which operates DVD rental kiosks that use the Blockbuster brand.

Still, analysts say the long-term trend is irreversible: Consumers will increasingly stop renting discs in favor of the convenience of online movie watching. “Consumers’ interest in the DVD medium is going to fall far faster than we think,” said Richard Greenfield, an analyst at BTIG Research.

Mr. Davis said that the decline in physical rentals would take longer than most expected. He does, however, concede that the decline will come. That is one reason the company worked with Verizon on the venture to create a service combining physical and online movie rentals. Details about the service, which will begin during the second half of the year, are sparse, but it is expected to be a subscription service with a monthly fee, like Netflix .

The online movies licensed by Verizon for the service will most likely consist of older titles because Hollywood studios tend to delay the release of many new films online. Customers will be able to go to Redbox kiosks to get newer movies on disc. Redbox owns 35 percent of the venture, with Verizon owning the remainder.

Some Hollywood studios, though, are trying to make it difficult for Redbox to get fresh movies into its kiosks, out of concern that its dirt-cheap rentals are cutting into home video sales. Several years ago, Redbox sued several of the studios for threatening to withhold DVD supplies for rentals for almost a month after the discs went on sale. In later settlements, Redbox agreed to delay rentals for 28 days in exchange for getting better economic terms from the studios for DVDs.

An agreement with one of those studios, Warner Brothers, expired at the end of January, and Redbox refused to agree to a new deal to delay rentals by 56 days from the date of their DVD release. That, in turn, forced Redbox to get Warner movies from other sources, including the same retail stores where consumers buy DVDs. United States copyright law allows a company like Redbox to rent out movies they buy retail.

Warren Lieberfarb, the former president of Warner’s home video division and now a consultant in Los Angeles, said Redbox had largely become an adversary of the studios, which “completely missed Netflix and Redbox as threats to the business model of people buying” movies. In a recent research report, Mr. Greenfield, the analyst, called Redbox “Hollywood Enemy #1.”

Mr. Davis said Redbox had good relationships with most of the studios. “I think we can always get better,” he said.